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The Daily Magic Formula Stock for 08/26/2008 is Northrop Grumman Corp. According to the Magic Formula Investing Web Site, the ebit yield is 12% and the EBIT ROIC is 50-75 %.

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BUSINESS OVERVIEW

HISTORY AND ORGANIZATION

History
Northrop Grumman Corporation (â€śNorthrop Grummanâ€ť or the â€ścompanyâ€ť) is an integrated enterprise consisting of many formerly separate businesses that cover the entire defense spectrum, from undersea to outer space and into cyberspace. The companies that have become part of todayâ€™s Northrop Grumman achieved historic accomplishments, from transporting Charles Lindbergh across the Atlantic to carrying astronauts to the moonâ€™s surface and back.

The company was originally formed in California in 1939 and was reincorporated in Delaware in 1985. From 1994 through 2002, the company entered a period of significant expansion through acquisitions of other businesses, most notably:

n In 1994, Northrop Corporation acquired Grumman Corporation (Grumman) and was renamed Northrop Grumman. Grumman was a premier military aircraft systems integrator and builder of the Lunar Module that first delivered men to the surface of the moon.

n In 1996, the company acquired the defense and electronics businesses of Westinghouse Electric Corporation, a world leader in the development and production of sophisticated radar and other electronic systems for the nationâ€™s defense, civil aviation, and other international and domestic applications.

n In 1997, the company acquired Logicon, a provider of military and commercial information systems and services that met the needs of its national defense, civil and industrial customers.

n In 1999, the company acquired Teledyne Ryan (Ryan), a business unit of Allegheny-Teledyne, a world leader in the design, development and manufacture of unmanned airborne reconnaissance, surveillance, deception and target systems. In 1927, Ryan produced the Spirit of St. Louis , which Charles Lindbergh flew across the Atlantic. Ryan was also a pioneer in the development of Unmanned Aerial Vehicles (UAVs).

n In 2001, the company acquired Litton Industries (Litton), a global electronics and information technology enterprise, and one of the nationâ€™s leading full-service design, engineering, construction, and life cycle supporters of major surface ships for the United States (U.S.) Navy, U.S. Coast Guard, and international navies.

n Also in 2001, Newport News Shipbuilding (Newport News) was added to the company. Newport News is the nationâ€™s sole designer, builder and refueler of nuclear-powered aircraft carriers and one of only two companies capable of designing and building nuclear-powered submarines.

n In 2002, Northrop Grumman acquired the space and mission systems businesses of TRW, a leading developer of military and civil space systems and satellite payloads, as well as a leading global integrator of complex, mission-enabling systems and services.

The acquisition of these and other businesses have shaped the company into its present position as a premier provider of technologically advanced, innovative products, services and solutions in information and services, aerospace, electronics and shipbuilding. As prime contractor, principal subcontractor, partner, or preferred supplier, Northrop Grumman participates in many high-priority defense and commercial technology programs in the U.S. and abroad. The company conducts most of its business with the U.S. Government, principally the Department of Defense (DoD). The company also conducts business with local, state, and foreign governments and domestic and international commercial customers. For a description of the companyâ€™s foreign operations, see Risk Factors in Part I, Item 1A.

Organization
The company is aligned into seven reportable segments categorized into four primary businesses. The Mission Systems, Information Technology, and Technical Services segments are presented as Information & Services. The Integrated Systems and Space Technology segments are presented as Aerospace. The Electronics and Ships segments are each presented as separate businesses. Newport News and Ship Systems are aggregated and reported as the Ships business in accordance with the provisions of Statement of Financial Accounting Standards No. 131 â€“ Disclosures about Segments of an Enterprise and Related Information.

The company, from time to time, acquires or disposes of businesses, and realigns contracts, programs or business areas among and within its operating segments that possess similar customers, expertise, and capabilities. These realignments are designed to more fully leverage existing capabilities and enhance development and delivery of products and services. For a description of material business dispositions that occurred during 2007, see Note 5 to the consolidated financial statements in Part II, Item 8. In January 2007, certain programs and business areas were transferred among Information Technology, Mission Systems, Space Technology, and Technical Services. The business descriptions below and operating results for all periods presented have been revised to reflect these changes made through December 31, 2007.

Subsequent Realignments â€“ In January 2008, the Newport News and Ship Systems sectors were realigned into a single segment called Northrop Grumman Shipbuilding to enable the company to more effectively utilize its shipbuilding assets and deploy its talented shipbuilders, processes, technologies, production facilities and planned capital investment to meet customer needs. This realignment had no impact on the companyâ€™s consolidated financial position, results of operations, cash flows, or segment reporting.

Also in January 2008, the company announced the transfer of certain programs and assets from the Mission Systems segment to the Space Technology segment, effective July 1, 2008. This transfer will allow Mission Systems to focus on the rapidly growing command, control, communications, computers, intelligence, surveillance, and reconnaissance (C4ISR) business, and the missiles business will be an integrated element of the companyâ€™s Aerospace business growth strategy. In addition, certain Electronics businesses were transferred to Mission Systems effective January 2008. The transfer of these businesses is not expected to have a material effect on the companyâ€™s consolidated financial position, results of operations, or cash flows.

These subsequent realignments have not been reflected in any of the accompanying financial information.

INFORMATION & SERVICES

Mission Systems
The Mission Systems segment, headquartered in Reston, Virginia, is a leading global systems integrator of complex, mission-enabling systems for government, military, and commercial customers. The segment consists of three areas of business: Command, Control and Communications (C3); Intelligence, Surveillance, and Reconnaissance (ISR); and Missile Systems.

Missile Systems â€“ Missile Systems supports the Air Force Intercontinental Ballistic Missile (ICBM) Program, the U.S. Ballistic Missile Defense System, the Missile Defense Integration Operations Center, and the Kinetic Energy Interceptors (KEI) program in support of the U.S. Air Force, the U.S. Army, the Missile Defense Agency, and other aerospace prime contractors. Offerings include battle management, command, control, communications (BMC3) and fire control systems; air and missile system engineering and integration; modeling and simulation; program management; system test and integration; development and deployment; missile system sustainment and modernization services; warfighter operations; and development and test activities for boost phase and midcourse intercept for the global layered missile defense system.

Intelligence â€“ Intelligence provides information technology (IT) systems, services and solutions primarily to the U.S. Intelligence Community, which includes customers in national agencies, defense, homeland security, and other agencies at the federal, state and local level. This business area also collaborates with other Information Technology business areas by providing specialized technology solutions in areas such as information security, secure wireless communications, secure cross agency information-sharing and geospatial information systems. Services and solutions span the entire mission life cycle from requirements and technology development through processing and data analysis to information delivery.

Civilian Agencies â€“ Civilian Agencies provides IT systems, services and solutions primarily for federal civilian agencies, as well as government and commercial healthcare customers. Civilian Agencies customers include the departments of Homeland Security, Treasury, Justice, Transportation, State, Interior, and the U.S. Postal Service. Homeland Security offerings include secure networking, criminal justice systems, and identity management. Healthcare customers include the Department of Health and Human Services, DoD Health Affairs, the Centers for Disease Control and Prevention, the Food and Drug Administration, the Department of Veterans Affairs, and a number of pharmaceutical manufacturers. Healthcare offerings include enterprise architecture, systems integration, infrastructure management, document management, human capital management, case management, and specialized health IT solutions in electronic medical records pertaining to public health, life sciences, disease surveillance, benefits, and clinical trials research.

Commercial, State & Local â€“ Commercial, State & Local provides IT systems, services and solutions primarily for state and local agencies and commercial customers. The commercial business centers on managed IT services both as a prime contractor and partner in addition to specialized solutions that address specific business needs. The state and local focus includes public safety, secure wireless solutions, human services, and managed IT services. This business area provides IT outsourcing services on a â€śservice level agreementâ€ť basis, where contractual terms are based on infrastructure volume and service levels. Services include management of data centers, networks, desktops, storage, security, help desk, and applications. Specialized state and local offerings include systems for police/fire/medical emergency dispatch, public safety command centers, biometric identification, and human services.

Defense â€“ Defense provides IT systems, services and solutions to all elements of the DoD including the Air Force, Navy, Army, Marines, the Office of the Secretary of Defense, and the Unified Combatant Commands. Offerings include business applications and systems integration related to human capital and business management, logistics, transportation, supply chain, and combat systems support. Other offerings consist of information technology and network infrastructures, including modernization, architecture, design and capacity modeling. Defense also provides solutions and services for defense technology laboratories and research and development centers, system program offices, operational commands, education and training commands, test centers, and other defense agencies.

NORTHROP GRUMMAN CORPORATION

Technical Services
The Technical Services segment, headquartered in Herndon, Virginia, provides infrastructure management and maintenance, training and preparedness, and logistics and life cycle management in a wide array of operating environments. The segment consists of three areas of business: Systems Support; Training and Simulation; and Life Cycle Optimization and Engineering.

Systems Support â€“ Systems Support provides infrastructure and base operations management, including base support and civil engineering work, military aerial and ground range operations, support functions which include space launch services, construction, combat vehicle maintenance, protective and emergency services, and range-sensor-instrumentat ion operations. Primary customers include the Department of Energy, the DoD, the National Aeronautics and Space Administration (NASA), the Department of Homeland Security, and the U.S. Intelligence community, in both domestic and international locations.

Training and Simulation â€“ Training and Simulation provides realistic and comprehensive training to senior military leaders and peacekeeping forces, designs and develops future conflict training scenarios, and provides U.S. warfighters and international allies with live, virtual, and constructive training programs. This business area also offers diverse training applications ranging from battle command to professional military education. Primary customers include the DoD, Department of State and Department of Homeland Security.

Life Cycle Optimization and Engineering â€“ Life Cycle Optimization and Engineering provides complete life cycle product support and weapons system sustainment. This business area is focused on providing Performance Based Logistical support to the warfighter including supply chain management services, warehousing and inventory transportation, field services and mobilization, sustaining engineering, maintenance, repair and overhaul supplies, and on-going weapon maintenance and technical assistance. The group specializes in rebuilding essential parts and assemblies. Primary customers include the DoD as well as international military and commercial customers.

AEROSPACE

Integrated Systems
The Integrated Systems segment, headquartered in El Segundo, California, designs, develops, produces, and supports fully missionized integrated systems and subsystems in the areas of battlespace awareness, command and control systems, integrated combat systems, and airborne ground surveillance. The segment is organized into the following areas of business: Integrated Systems Western Region (ISWR) and Integrated Systems Eastern Region (ISER).

Integrated Systems Western Region â€“ The principal manned vehicle programs in ISWR are subcontractor work on the F/A-18 and F-35 programs and prime contract work on the B-2 program and the Multi-Platform Radar Technology Insertion Program (MP-RTIP). For the F/A-18, ISWR is responsible for the full integration of the center and aft fuselage and vertical tail sections and associated subsystems. For the F-35, ISWR is responsible for the detailed design and integration and production of the center fuselage and weapons bay, systems engineering, mission system software, autonomic logistics and global sustainment, ground and flight test support, signature/low observables development, and support of modeling and simulation activities. ISWR is the prime systems integration contractor for the MP-RTIP, which will provide advanced radar capabilities for the Global Hawk UAV and potential future Wide Area Surveillance (WAS) platform. ISWR is working on a radar and avionics upgrade program for the B-2 bomber and is a prime integrator for all logistics support activities including program depot maintenance.

The principal unmanned vehicle programs at ISWR are the Global Hawk, the Naval Unmanned Combat Air System (N-UCAS), Aerial Targets, and the Fire Scout. ISWR is the prime contractor for these product lines with the exception of the Army version of Fire Scout for Future Combat Systems (FCS). The Global Hawk is a high altitude long endurance unmanned aerial reconnaissance system. N-UCAS is a development/demonstration program that will design, build and test two demonstration vehicles that will conduct a carrier demonstration. The technology demonstrations are to show carrier control area operations, catapult launch, and an arrested NORTHROP GRUMMAN CORPORATION

landing of a low observable unmanned aerial combat vehicle. Aerial Targets has two primary models, the BQM-74 and the BQM-34 and is the prime contractor on multiple domestic and international contracts. Fire Scout is a vertical takeoff and landing tactical UAV system in development and consists of two versions â€“ the Vertical Takeoff and Landing Unmanned Air Vehicle (VTUAV) for the U.S. Navy and the FCS Class IV UAV for the U.S. Army.

Integrated Systems Eastern Region
Airborne Early Warning and Battle Management Command & Control-Navy (AEW & BMC2) â€“ AEW & BMC2â€™s principal products include the E-2C Hawkeye and E-2D Advanced Hawkeye aircraft (currently in the system development and demonstration (SDD) phase of development and Pilot Production). The Hawkeye is the U.S. Navyâ€™s airborne battle management command and control mission system platform providing airborne early warning detection, identification, tracking, targeting, and communication capabilities. The company is currently performing on a follow-on multi-year contract for eight E-2C aircraft to be delivered to the U.S. Navy through 2009 (two aircraft delivered in 2006 and two aircraft delivered in 2007). The company is developing the next generation capability including radar, mission computer, vehicle, and other system enhancements called the E-2D Advanced Hawkeye under an SDD contract with the U.S. Navy. Pilot Production of three aircraft was authorized in 2007 and long lead funding for the first lot of Low Rate Initial Production (three aircraft) was received in December 2007.

Intelligence, Surveillance, Reconnaissance & Battle Management Command & Control â€“ Air Force (ISR & BMC2-AF) â€“ ISR & BMC2-AF is the prime contractor on the Joint Surveillance Target Attack Radar System (Joint STARS) program. Joint STARS detects, locates, classifies, tracks, and targets potentially hostile ground movement in all weather conditions. It is designed to operate around the clock in constant communication through secure data links with U.S. Air Force command posts, U.S. Army mobile ground stations, or centers for military analysis far from the point of conflict. The Joint STARS program is currently developing performance upgrades and retrofits under an ongoing Systems Improvement Program. Fleet sustainment is performed through the Total Systems Support contract currently in its eighth fiscal year. In February 2007, an initial non-recurring contract was awarded to re-engine the fleet of nineteen aircraft with modern, more reliable, powerful and fuel efficient engines. Follow-on nonrecurring efforts and recurring contract awards are expected in 2008. Following the customerâ€™s decision in 2007 not to fund the E-10A Technology Demonstration Development Program, a one-year Mission Execution Program study contract was awarded that will leverage the E-10A analysis and design concepts for the Joint STARS platform.

Electronic Support & Attack Solutions (ES & AS) â€“ ES & ASâ€™ principal products include the EA-6B (Prowler) and the electronic attack system for the EA-18G aircraft. The Prowler is currently the armed servicesâ€™ only offensive tactical radar jamming aircraft. ES & AS has developed the next generation mission system for this aircraft under the Increased Capacity (ICAP) III contract and has completed the final test and evaluation phase. The company completed the low-rate initial production for ICAP III Kits during 2006, and was awarded a follow-on contract for ICAP III Kits & Spares, with deliveries commencing in 2007. In addition, the company is performing on a contract to incorporate the ICAP III mission system into an F/A-18 platform, designated the EA-18G. Integrated Systems is the principal subcontractor to Boeing for this program, which is currently in the SDD phase. Northrop Grumman has been authorized to begin production of Low Rate Initial Production units.

Space Technology
The Space Technology segment, headquartered in Redondo Beach, California, develops a broad range of systems at the leading edge of space, defense, and electronics technology. The segment provides products primarily to the U.S. Government that are critical to the nationâ€™s security and leadership in science and technology. In October 2007, Space Technology realigned its organizational structure to better position itself with its customer base for NORTHROP GRUMMAN CORPORATION

future growth. Products and services are grouped into the following business areas: Civil Systems; Military Systems; National Systems; and Technology & Emerging Systems.

Civil Systems â€“ The Civil Systems business area produces and integrates space-based systems, instruments, and services primarily for NASA, the National Oceanic and Atmospheric Administration, and other governmental agencies. These systems are primarily used for space science, earth observation and environmental monitoring, and exploration missions. A variety of systems and services are provided, including mission and system engineering services, satellite and instrument systems, mission operations, and propulsion systems. Major programs include National Polar-orbiting Operational Environmental Satellite System (NPOESS), the James Webb Space Telescope (JWST), and the legacy Chandra space telescope and Earth Observing System programs.

Military Systems â€“ Military Systems produces and integrates spiral development programs and operational programs associated with the U.S. Air Force, Missile Defense Agency, and other military customers. Responsibilities include study design, build integration, launch, and operations of major U.S. military space systems. Programs include the Advanced Extremely High Frequency (AEHF) payload, Transformational Satellite (TSAT) communications system, Space Tracking and Surveillance System (STSS), and the communication payload for the legacy Milstar program, currently in operation. The Defense Support Program (DSP) is also part of this business area, and has been monitoring ballistic missile launches for the U.S. Air Force for decades.

National Systems â€“ The National Systems business area gives the nationâ€™s monitoring systems a global reach and enhanced national security. Addressing requirements in space-based intelligence, surveillance, and reconnaissance systems, National Systems provides mission and system engineering, satellite systems, and mission operations. Customers are predominantly restricted, as are the major programs.

Technology & Emerging Systems â€“ Technology & Emerging Systems consists of government funded research and development contracts in support of the three business areas above. In addition, it includes the Airborne Laser (ABL), other directed energy programs and advanced concepts programs.

ELECTRONICS

The Electronics segment, headquartered in Linthicum, Maryland, designs, develops, produces, integrates, and supports high performance sensors, intelligence processing, and navigation systems operating in all environments from undersea to outer space and cyberspace. It also develops, produces, integrates, and supports power, power control, and ship control systems for commercial and naval ships in domestic and international markets. In select markets it performs as a prime contractor, integrating multiple subsystems to provide complete systems to meet customersâ€™ solution requirements. The segment is composed of five areas of business: Aerospace Systems; Defensive Systems; Government Systems; Naval & Marine Systems; and Navigation Systems.

Aerospace Systems â€“ Aerospace Systems provides sensors, sensor processing, integrated sensor suites, and radar countermeasure systems for military surveillance and precision-strike; missile tracking and warning; space satellite applications; and radio frequency electronic warfare. Fire control radars include systems for the F-16, F-22, F-35 and B-1B. Navigation radars include commercial and military systems for transport and cargo aircraft. Surveillance products include the Airborne Warning and Control System (AWACS) radar, the 737 Multi-Role Electronically Scanned Array (MESA) radar, the Multi-Platform Radar Technology Insertion Program (MP-RTIP, the ship-board Cobra Judy Replacement (CJR) radar, and multiple payloads on the P-8A. Space satellite products include the Space-Based Infrared Surveillance (SBIRS) program, payloads for restricted programs, the Defense Meteorological Satellite Program (DMSP), NPOESS, and the DSP. Radio frequency electronic warfare products include radar warning receivers, self-protection jammers, and integrated electronic warfare systems for aircraft such as the EA-6B, EA-18, F-16 and F-15.

Defensive Systems â€“ Defensive Systems provides systems that support combat aviation by protecting aircraft and helicopters from attack, by providing capabilities for precise targeting and tactical surveillance, by improving mission availability through automated test systems and by improving mission skills through advanced simulation systems. It also provides systems that support land forces. Aircraft and helicopter protection systems include NORTHROP GRUMMAN CORPORATION

infrared detection and countermeasures systems to defeat shoulder-launched and infrared-guided missiles. Targeting systems include lasers for target designation and image processing and sensor applications, and the LITENING pod system to detect and designate targets for engagement by precision weapons in aircraft such as the F-16 and F/A-18. Test systems include systems to test electronic components of combat aircraft on the flight line and in repair facilities. Land force systems include precision guided munitions for artillery and UAV delivery, night vision goggles, laser designators, weapon sights, tactical radars for warning of missile and artillery attack, and fire control radars for helicopters. Defensive Systems also provides standard simulators for use on test ranges and training facilities to emulate threats of potential adversaries.

Government Systems â€“ Government Systems provides products and services to meet the needs of governments for improvements in the effectiveness of their civil and military infrastructure and of their combat and counter-terrorism operations. This includes systems and systems integration of products and services for postal automation, for the detection and alert of Chemical, Biological, Radiological, Nuclear and Explosive (CBRNE) material, for homeland defense, communications, and air traffic management, and for multi-sensor processing and analysis for combat units and national agencies of data from ISR systems. Key programs include: Advanced Flat Sorting Machines; International Sorting Centers; U.S. Postal Service bio-detection systems; national level communications, information processing and air defense systems for international customers; unattended ground sensors; the ISR Distributed Common Ground System for the U.S. military services and national agencies; and deployed ISR and persistent surveillance processing systems.

Naval & Marine Systems â€“ Naval and Marine Systems provides major subsystems and subsystem integration for sensors, sensor processing, missile launching, ship controls and power generation. It provides systems to military surface and subsurface platforms, and bridge and machinery control systems for commercial maritime applications. Principal programs include: radars for navigation; radars for gun fire control and cruise missile defense; bridge management and control systems; power generation systems for aircraft carriers; power and propulsion systems for the Virginia Class submarine; launch systems for Trident submarines and the KEI program; the Advanced SEAL Delivery System mini-submarine; and unmanned semi-autonomous naval systems.

Navigation Systems â€“ Navigation Systems provides advanced navigation, identification of friend or foe and avionics systems for military and commercial applications. Its products are used in commercial space and aircraft; in military air, land, sea, and space systems; and in both U.S. and international markets. Its subsidiaries, LITEF Germany and Northrop Grumman Italia, are leading European inertial sensors and systems suppliers. Key programs and applications include: integrated avionics for the U.S. Marine Corps attack and utility helicopters and U.S. Navy E-2 aircraft; military navigation and positioning systems for the F-16 fighter, F-22A fighter/attack aircraft, Eurofighter, and U.S. Navy MH-60 helicopter; navigation systems for commercial aircraft; navigation systems for military and civil space satellites and deep space exploration; identification of friend-or-foe transponders and interrogators; and systems for the C-17 aircraft, Eurofighter and MH-60 helicopter. Navigation Systems also develops and produces fiber-optic acoustic systems for underwater surveillance for Virginia Class submarines and the AN/TYQ-23 multi-service mobile tactical command centers for the U.S. Marine Corps and U.S. Air Force.

Aircraft Carriers â€“ Ships is the nationâ€™s sole industrial designer, builder, and refueler of nuclear-powered aircraft carriers. The U.S. Navyâ€™s newest carrier, the USS Ronald Reagan , was delivered to the fleet in May 2004. Construction on the last carrier in the Nimitz class, the George H. W. Bush , continues. The Bush christening occurred in the fall of 2006 and delivery to the U.S. Navy is expected in late 2008. Advanced design and preparation continues for the new generation carrier, Ford class, which will incorporate transformational technologies that will result in manning reductions, improved war fighting capability, and a new nuclear propulsion plant design. The construction award for the first ship of the Ford class, the Gerald R. Ford , is NORTHROP GRUMMAN CORPORATION

expected in mid 2008. The company also provides ongoing maintenance for the U.S. Navy aircraft carrier fleet through overhaul, refueling, and repair work. Ships is currently performing the refueling and complex overhaul of the USS Carl Vinson with redelivery to the U.S. Navy anticipated in early 2009. Planning for the USS Theodore Roosevelt refueling and complex overhaul began in the fall of 2006 and the ship is expected to arrive at Newport News, Virginia in the fall of 2009.

Expeditionary Warfare â€“ Expeditionary Warfare programs include the design and construction of amphibious assault ships for the U.S. Navy, including the WASP LHD 1 class and the San Antonio LPD 17 class. Ships is the sole provider for the LHD class of large-deck, 40,500-ton multipurpose amphibious assault ships, which serve as the centerpiece of an Amphibious Ready Group. Currently, the LHD 8 is under construction and is a significant upgrade from the preceding seven ships of its class. The design and production of the LHD 8 is a $1.9 billion program with delivery scheduled for late 2008. In 2007, the construction contract for LHA 6, the first in a new class of enhanced amphibious assault ships, was awarded. The ship is scheduled for delivery in 2012. Ships is also the sole provider of the LPD 17 class of ships, which function as amphibious transports. The initial three ships were delivered in 2005, 2006, and 2007, and five LPD 17 ships are currently under construction. In December 2007, the construction award for the ninth ship was received.

Surface Combatants â€“ Surface Combatants includes the design and construction of the Arleigh Burke DDG 51 class Aegis guided missile destroyers, and the design of DDG 1000 (previously DD(X)), the Navyâ€™s future transformational surface combatant class. Ships is one of two prime contractors designing and building DDG 51 class destroyers, which provide primary anti-aircraft and anti-missile ship protection for the U.S. Navy fleet. Four Arleigh Burke class destroyers are currently under construction. In 2006, Ships was awarded Phase IV detail design & long lead construction funding for the initial DDG 1000. The contract calls for an equal split of ship detail design efforts between the company and Bath Iron Works, a wholly owned subsidiary of General Dynamics Corporation. The construction award for the initial ship is anticipated in the first half of 2008. The advanced technologies developed on DD(X) Phase III are being incorporated into DDG 1000 and are anticipated to be incorporated into the next generation guided missile cruiser CG(X).

Submarines â€“ Northrop Grumman is one of only two U.S. companies capable of designing and building nuclear-powered submarines. In February 1997, the company and Electric Boat, a wholly owned subsidiary of General Dynamics Corporation, reached an agreement to cooperatively build Virginia Class nuclear attack submarines. The lead ship, USS Virginia , was delivered by Electric Boat to the U.S. Navy and commissioned into the fleet in October 2004. The USS Texas was delivered by Ships in the spring of 2006. The USS Hawaii was delivered by Electric Boat in December 2006, and North Carolina , the final block one ship, is expected to be delivered by Ships in early 2008. Electric Boat and Ships were awarded a construction contract in August 2003, which was subsequently modified in January 2004, for the second block of six Virginia Class submarines. Planning and long lead material procurement is underway on all six boats of the second block; construction has begun on the first four. The construction award for the third block is expected in late 2008.

Coast Guard & Coastal Defense â€“ Ships is a joint venture partner along with Lockheed Martin for the Coast Guardâ€™s Deepwater Modernization Program. Ships has design and production responsibility for surface ships. In 2006, the Ships/Lockheed Martin joint venture was awarded a 43 month contract extension for the Deepwater program. Currently, the first three National Security Cutters (NSC) are in construction. The initial NSC will be delivered in early 2008.

Fleet Support â€“ Ships provides after-market services, including on-going maintenance and repair work, for a wide array of naval and commercial vessels. The company has ship repair facilities in the U.S. Navyâ€™s largest homeports of Norfolk, Virginia, and San Diego, California.

Services, Commercial & Other â€“ Under the Polar Tanker program, Ships was under contract to produce five double-hulled tankers. These tankers each transport one million barrels of crude oil from Alaska to west coast refineries and are fully compliant with the Oil Pollution Act of 1990. The last ship under this program was delivered in mid-2006.

CEO BACKGROUND

Mr. Lewis W. Coleman has been the President of DreamWorks Animation since December 2005 and Chief Financial Officer since March 2007. Previously he was the President of the Gordon and Betty Moore Foundation from its founding in November 2000 to December 2004. Prior to that, Mr. Coleman was employed by Banc of America Securities, formerly known as Montgomery Securities where he was a Senior Managing Director from 1995 to 1998 and Chairman from 1998 to 2000. Before he joined Montgomery Securities, Mr. Coleman spent ten years at the Bank of America and Bank of America Corporation where he was successively the Senior Credit Officer in The World Banking Group, Head of Global Capital Markets, Head of the World Banking Group, and Vice Chairman of the Board and Chief Financial Officer. He spent the previous thirteen years at Wells Fargo Bank where his positions included Head of International Banking, Chief Personnel Officer and Chairman of the Credit Policy Committee. Mr. Coleman currently serves as a director of DreamWorks Animation. He also serves on several private company and civic boards.

Mr. Victor H. Fazio was named Senior Advisor at Akin Gump Strauss Hauer & Feld LLP in May 2005 after serving as senior partner at Clark & Weinstock since 1999. Prior to that Mr. Fazio was a Member of Congress for 20 years representing Californiaâ€™s third congressional district. During that time he served as a member of the Armed Services, Budget and Ethics Committees and was a member of the House Appropriations Committee where he served as Subcommittee Chair or ranking member for 18 years. Mr. Fazio was a member of the elected Leadership in the House from 1989-1998 including four years as Chair of his Partyâ€™s Caucus, the third ranking position. From 1975 to 1978, Mr. Fazio served in the California Assembly and was a member of the staff of the California Assembly Speaker from 1971 to 1975. He is a member of the board of directors of various private companies and non-profit organizations including the American Political Science Association, the Energy Future Coalition, the Campaign Finance Institute, the Center for Responsible Federal Budget and California Institute, and the U.S. Capitol Historical Society. Mr. Fazio serves as a member of the Board of Governors of the American Stock Exchange.

Admiral Thomas B. Fargo, USN (Ret.), has served as President of Trex Enterprises Corporation since March 2005. He also serves as Chairman and Chief Executive Officer of Loea Corporation, a high-bandwidth wireless communications company, and as Chairman of Sago Systems, Inc, a defense and homeland security company, which are both subsidiaries of Trex Enterprises. Admiral Fargo served as Commander of the U.S. Pacific Command leading the largest unified command while directing the joint operations of the Army, Navy, Marine Corps and Air Force from May 2002 until his retirement from the United States Navy in March 2005. His 35 years of service included six tours in Washington, D.C. in addition to five commands in the Pacific, Indian Ocean, and Middle East, which included Commander-in-Chief of the U.S. Pacific Fifth Fleet and Naval Forces of the Central Command. Admiral Fargo serves on the Boards of Directors for Hawaiian Electric Industries, Hawaiian Airlines and USAA. He also serves on the Board of Directors of the Japan-America Society of Hawaii, the Iâ€™olani School Board of Governors, and the Hawaii Pacific University Board of Trustees, and he is the National Vice Chairman of the Pearl Harbor Memorial Fund.

Mr. Donald E. Felsinger is Chairman of the Board of Directors and Chief Executive Officer of Sempra Energy, a position he has held since February 1, 2006. Beginning in January 2005, Mr. Felsinger was President and Chief Operating Officer of Sempra Energy and a member of the board of directors, and from 1998 through 2004, he was Group President and Chief Executive Officer of Sempra Global. Prior to the merger that formed Sempra Energy he served as President and Chief Operating Officer of Enova Corporation, the parent company of San Diego Gas & Electric (SDG&E). Prior positions included President and Chief Executive Officer of SDG&E, Executive Vice President of Enova Corporation, and Executive Vice President of SDG&E. Mr. Felsinger is a member of The Conference Board and the California Business Roundtable.

Mr. Stephen E. Frank served as Chairman, President and Chief Executive Officer of Southern California Edison from 1995 until his retirement in January 2002. During this time he served on the boards of directors of that company and its parent, Edison International. Prior to joining Southern California Edison in 1995, Mr. Frank was President and Chief Operating Officer of Florida Power and Light Company as well as a director of FPL Group, the parent company. He also has served as Executive Vice President and Chief Financial Officer of TRW Inc., as well as Vice President, Controller, and Treasurer of GTE Corporation. His earlier career included financial and sales management positions with U.S. Steel Corporation. He earned a bachelorâ€™s degree from Dartmouth College and an MBA in finance from the University of Michigan. He also completed the Advanced Management Program at Harvard Business School. Mr. Frank serves on the board of directors of Washington Mutual, Inc., Puget Energy, Inc., and AEGIS Insurance Services Limited. He also serves as a board member of the Los Angeles Philharmonic Association and the Reno Philharmonic Association.

Dr. Phillip Frost presently serves as Chairman of the Board and Chief Executive Officer of Opko Health, Inc., a specialty pharmaceutical company. He has served as Vice Chairman of the Board of Directors of Teva Pharmaceutical Industries, Ltd. (â€śTevaâ€ť) since January 2006 when Teva acquired IVAX Corporation. He had served as the Chairman of the Board of Directors and Chief Executive Officer of IVAX Corporation from 1987 to 2006. Dr. Frost is also Chairman of the Board of Ladenburg Thalmann & Co. and a director of Continucare Corporation and Modigene Inc. He also served as a director of Castle Brands and Cellular Technical Services and Protalix Bio Therapeutics, Inc. until 2007. Dr. Frost served as Chairman of the Department of Dermatology at Mt. Sinai Medical Center of Greater Miami, Miami Beach, Florida from 1972 to 1990 and was Chairman of the Board of Key Pharmaceuticals, Inc. from 1972 to 1986. He is a Trustee of the University of Miami, Trustee of the Scripps Research Institute, a Regent of the Smithsonian Institute, and is Vice Chairman of the Board of Governors of the American Stock Exchange.

Admiral Charles R. Larson has served as a consultant on defense, foreign policy and education issues to government and industry since retiring from the United States Navy in 1998. He served as commander in the Pacific from 1991 to 1994, where he was responsible for 350,000 personnel and the readiness of all U.S. forces in

the theater. He was the first naval officer selected to be a White House Fellow and also served as Naval Aide to the President of the United States. He was Superintendent of the U.S. Naval Academy, first from 1983 to 1986, and again from 1994 to 1998. During his naval career as a qualified nuclear engineer, he had several years experience in naval and commercial shipyards, including submarine construction and reactor defueling. His decorations include the Defense Distinguished Service Medal and seven Navy Distinguished Service Medals. Admiral Larson is a director of Esterline Technologies Corporation and Edge Technologies, Inc. He is also Chairman of the Board of the U.S. Naval Academy Foundation, Chairman of Via Global LLC, and a trustee of the Anne Arundel Health Systems, Inc.

General Richard B. Myers retired from his position as the fifteenth Chairman of the Joint Chiefs of Staff on September 30, 2005 after serving in that position for four years. In this capacity, he served as the principal military advisor to the President, the Secretary of Defense, and the National Security Council. Prior to becoming Chairman, he served as Vice Chairman of the Joint Chiefs of Staff from March 2000 to September 2001. As the Vice Chairman, General Myers served as the Chairman of the Joint Requirements Oversight Council, Vice Chairman of the Defense Acquisition Board, and as a member of the National Security Council Deputies Committee and the Nuclear Weapons Council. During his military career, General Myersâ€™ commands included Commander in Chief, North American Aerospace Defense Command and U.S. Space Command; Commander, Air Force Space Command; Commander Pacific Air Forces; and Commander of U.S. Forces Japan and 5th Air Force at Yokota Air Base, Japan. General Myers is a director of Deere & Company, United Technologies, and Aon Corp. He is Foundation Professor of Military History and Leadership at Kansas State University and occupies the Colin L. Powell Chair of Ethics, Leadership and Character at National Defense University.

Ms. Aulana L. Peters is a retired partner of the law firm of Gibson, Dunn & Crutcher where she was a partner from 1980 to 1984 and 1988 to December 2000. From 1984 to 1988, she served as a Commissioner of the Securities and Exchange Commission. From January 2001 to April 2002, Ms. Peters served as a member of the Public Oversight Board of the American Institute of Certified Public Accountants. Ms. Peters has also served as a member of the Financial Accounting Standards Board Steering Committee for its Financial Reporting Project and as a member of the Public Oversight Boardâ€™s Panel on Audit Effectiveness. Currently Ms. Peters serves on the U.S. Comptroller Generalâ€™s Accountability Advisory Council, the International Public Interest Oversight Board, and the Board of Trustees, Mayo Clinic. Ms. Peters is a director of 3M Company, Merrill Lynch & Co., Inc. and Deere & Company.

Mr. Kevin W. Sharer has served as Chairman of the Board of Amgen since December 2000 and as Chief Executive Officer since May 2000. Mr. Sharer joined Amgen in 1992 as President, Chief Operating Officer and member of the board of directors. Before joining Amgen, Mr. Sharer was Executive Vice President and President of the Business Markets Division at MCI Communications. Prior to MCI, he served in a variety of executive capacities at General Electric and was a consultant for McKinsey & Company. He is chairman of the board of trustees of the Los Angeles County Museum of Natural History, and is a member of The Business Council. Mr. Sharer also serves on the board of directors of Chevron Corporation.

Dr. Ronald D. Sugar was elected Chairman of the Board of Northrop Grumman effective October 2003. He was named the Chief Executive Officer in April 2003, after having served as President and Chief Operating Officer since September 2001. He joined Northrop Grumman in 2001 having previously served as President, Chief Operating Officer and director of Litton Industries, Inc., and earlier as an executive of TRW Inc. He is a member of the National Academy of Engineering, a Governor of the Aerospace Industries Association, and is a trustee of the Los Angeles Philharmonic Association, the University of Southern California, and the Boys and Girls Clubs of America. He serves as a director of Chevron Corporation.

MANAGEMENT DISCUSSION FROM LATEST 10K

OVERVIEW

Business
Northrop Grumman provides technologically advanced, innovative products, services, and integrated solutions in information and services, aerospace, electronics, and shipbuilding to its global customers. As a prime contractor, principal subcontractor, partner, or preferred supplier, Northrop Grumman participates in many high-priority defense and commercial technology programs in the U.S. and abroad. Northrop Grumman conducts most of its business with the U.S. Government, principally the DoD. The company also conducts business with local, state, and foreign governments and has domestic and international commercial sales.

n Cash from operations increases to record $2.9 billion after $200 million pension pre-funding.

n Diluted earnings per share from continuing operations of $5.16 per share.

n Total backlog of $64.1 billion.

n Share repurchases totaling $1.2 billion.

n Business acquisitions totaling approximately $690 million.

n Partial insurance settlement with all but one of the primary insurers and recognition of $62 million in business interruption recovery related to Hurricane Katrina. See Notes 15 and 17 to the consolidated financial statements in Part II, Item 8.

n Contract earnings rate charge on LHD 8 of approximately $55 million following the strike at the Pascagoula shipyard.

n Adoption of a new tax accounting standard on accounting for uncertain tax positions â€“ see Note 12 to the consolidated financial statements in Part II, Item 8.

Outlook
U.S. defense contractors have benefited from the upward trend in overall defense spending over recent years. Certain programs in which the company participates may be subject to potential reductions due to a slower rate of growth in the U.S. Defense Budget forecasts and funds being utilized to support the on-going Global War on Terrorism. Despite the trend of slower growth rates in the U.S. defense budget, the company believes that its portfolio of technologically advanced, innovative products, services, and integrated solutions will generate revenue growth in 2008 and beyond. Based on total backlog (funded and unfunded) of approximately $64 billion as of December 31, 2007, the company expects sales in 2008 of approximately $33 billion and forecasts improvement in net income over 2007. The major industry and economic factors that may affect the companyâ€™s future performance are described in the following paragraphs.

Industry Factors
Northrop Grumman is subject to the unique characteristics of the U.S. defense industry as a monopsony, and by certain elements peculiar to its own business mix. Northrop Grumman, along with Lockheed Martin Corporation, The Boeing Company, Raytheon Company, and General Dynamics Corporation are among the largest companies in the U.S. defense industry at this time. Northrop Grumman competes against these and other companies for a number of programs, both large and small. Intense competition and long operating cycles are both key characteristics of Northrop Grummanâ€™s business and the defense industry. It is common in this industry for work on major programs to be shared among a number of companies. A company competing to be a prime contractor may, upon ultimate award of the contract to another party, turn out to be a subcontractor for the ultimate prime contracting party. It is not uncommon to compete for a contract award with a peer company and simultaneously perform as a supplier to or a customer of such competitor on other contracts. The nature of NORTHROP GRUMMAN CORPORATION

major defense programs, conducted under binding contracts, allows companies that perform well to benefit from a level of program continuity not common in many industries.

The companyâ€™s success in the competitive defense industry depends upon its ability to develop and market its products and services, as well as its ability to provide the people, technologies, facilities, equipment, and financial capacity needed to deliver those products and services with maximum efficiency. It is necessary to maintain, as the company has, sources for raw materials, fabricated parts, electronic components, and major subassemblies. In this manufacturing and systems integration environment, effective oversight of subcontractors and suppliers is as vital to success as managing internal operations.

Similarly, there is intense competition among many companies in the information and services markets which is generally more labor intensive with competitive margin rates over contract periods of shorter duration. Competitors in the information and services markets include the defense industry participants mentioned above as well as many other large and small entities with expertise in various specialized areas. The companyâ€™s ability to successfully compete in the information and services markets depends on a number of factors; most important is the capability to deploy skilled professionals, many requiring security clearances, at competitive prices across the diverse spectrum of these markets. Accordingly, various workforce initiatives are in place to ensure the company is successful in attracting, developing and retaining sufficient resources to maintain or improve its competitive position within these markets.

Economic Opportunities, Challenges, and Risks
The defense of the U.S. and its allies requires the ability to respond to one or more regional conflicts, terrorist acts, or threats to homeland security and is increasingly dependent upon early threat identification. National responses to those threats may require unilateral or cooperative initiatives ranging from dissuasion, deterrence, active defense, security and stability operations, or peacekeeping. The U.S. Government continues to place a high priority on the protection of its engaged forces and citizenry and in minimizing collateral damage when force must be applied in pursuit of national objectives. As a result, the U.S. and its military coalitions increasingly rely on sophisticated systems providing long-range surveillance and intelligence, battle management, and precision strike capabilities combined with the ability to rapidly deploy effective force to any region. Accordingly, defense procurement spending is expected to be weighted toward the development and procurement of military platforms and systems demonstrating the stealth, long-range, survivability, persistence and standoff capabilities that can overcome such obstacles to access. Additionally, advanced electronics and software that enhance the capabilities of individual systems and provide for the real-time integration of individual surveillance, information management, strike, and battle management platforms will also be required.

While the upward trend in overall defense spending may slow, defense requirements are not expected to change significantly in the foreseeable future. Many allied countries are focusing their development and procurement efforts on advanced electronics and information systems capabilities to enhance their interoperability with U.S. forces. The size of future U.S. and international defense budgets is expected to remain responsive to the international security environment. The proposed 2009 budget provides $515.4 billion in discretionary authority for the DoD base budget, representing a $35.9 billion or 7.5 percent increase over the enacted level for fiscal 2008. This proposed budget includes reductions in certain programs in which the company participates or for which the company expects to compete, however the company believes that spending on recapitalization and modernization of homeland security and defense assets will continue to be a national priority, with particular emphasis on areas involving intelligence, persistent surveillance, cyber space and non-conventional warfare capabilities.

U.S. Government programs in which the company either participates, or strives to participate, must compete with other programs for consideration during the U.S. budget formulation and appropriation processes. Budget decisions made in this environment will have long-term consequences for the size and structure of the company and the entire defense industry.

NORTHROP GRUMMAN CORPORATION

Substantial new competitive opportunities for the company include a new aerial refueling tanker, the next-generation long-range bomber, space radar, unmanned vehicles, satellite communications systems, restricted programs, technical services and information technology contracts, and several international and homeland security programs. In pursuit of these opportunities, Northrop Grumman continues to focus on operational and financial performance for continued growth in 2008 and beyond.

Northrop Grumman has historically concentrated its efforts in high technology areas such as stealth, airborne and space surveillance, battle management, systems integration, defense electronics, and information technology. The company has a significant presence in federal and civil information systems; the manufacture of combatant ships including aircraft carriers and submarines; space technology; command, control, communications, computers, intelligence, surveillance, and reconnaissance (C4ISR); and missile systems. The company believes that its programs are a high priority for national defense. Nevertheless, under budgetary pressures, there remains the possibility that one or more of them may be reduced, extended, or terminated by the companyâ€™s U.S. Government customers.

The company provides certain product warranties that require repair or replacement of non-conforming items for a specified period of time. Most of the companyâ€™s product warranties are provided under government contracts, the costs of which are generally incorporated into contract pricing.

Prime contracts with various agencies of the U.S. Government and subcontracts with other prime contractors are subject to numerous procurement regulations, including the False Claims Act and The International Traffic in Arms Regulations promulgated under the Arms Export Control Act, with noncompliance found by any one agency possibly resulting in fines, penalties, debarment, or suspension from receiving additional contracts with all U.S. Government agencies. Given the companyâ€™s dependence on U.S. Government business, suspension or debarment could have a material adverse effect on the company.

See Risk Factors located in Part I, Item 1A for a more complete description of risks faced by the company and the defense industry.

BUSINESS ACQUISITIONS

2007 â€“ In January 2007, the company acquired Essex Corporation (Essex) for approximately $590 million in cash, including estimated transaction costs of $15 million, and the assumption of debt totaling $23 million. Essex provides signal processing services and products, and advanced optoelectronic imaging for U.S. government intelligence and defense customers. The operating results of Essex are reported in the Mission Systems segment.

In July 2007, the company and Science Applications International Corporation (SAIC) reorganized their joint venture AMSEC, LLC (AMSEC), by dividing AMSEC along customer and product lines. AMSEC is a full-service supplier that provides engineering, logistics and technical support services primarily to Navy ship and aviation programs. Under the reorganization plan, the company retained the ship engineering, logistics and technical service businesses under the AMSEC name (the AMSEC Businesses) and, in exchange, SAIC received the aviation, combat systems and strike force integration services businesses from AMSEC (the Divested Businesses). This reorganization was treated as a step acquisition for the acquisition of SAICâ€™s interests in the AMSEC Businesses, with the company recognizing a pre-tax gain of $23 million for the effective sale of its interests in the Divested Businesses. The operating results of the AMSEC Businesses and transaction gain have been reported in the Ships segment. Prior to the reorganization, the company accounted for AMSEC, LLC under the equity method. The consolidated financial statements reflect preliminary estimates of the fair value of the assets acquired and liabilities assumed and the related allocation of the purchase price for the entities acquired. Management does not expect adjustments to these estimates, if any, to have a material effect on the companyâ€™s consolidated financial position or results of operations.

During the third quarter of 2007, the company acquired Xinetics Inc., reported in the Space Technology segment, and the remaining 61 percent of Scaled Composites, LLC, reported in the Integrated Systems segment, for an aggregate amount of approximately $100 million in cash. The consolidated financial statements reflect NORTHROP GRUMMAN CORPORATION

preliminary estimates of the fair value of the assets acquired and liabilities assumed and the related allocation of the purchase price for the entities acquired. Management does not expect adjustments to these estimates, if any, to have a material effect on the companyâ€™s consolidated financial position or results of operations.

2006 â€“ There were no significant acquisitions during 2006.

2005 â€“ The company acquired Confluent RF Systems Corporation (Confluent), reported in the Integrated Systems segment, for $42 million in cash, which included transaction costs of $2 million, and Integic Corporation (Integic), reported in the Information Technology segment, for $319 million in cash, which included transaction costs of $6 million.

BUSINESS DISPOSITIONS

2007 â€“ During the second quarter of 2007, management announced its decision to exit the remaining Interconnect Technologies (ITD) business reported within the Electronics segment. Sales for this business for the years ended December 31, 2007, 2006, and 2005, were $14 million, $35 million, and $89 million, respectively. The shut-down was completed during the third quarter of 2007 and costs associated with the shutdown were not material. The results of this business are reported as discontinued operations in the consolidated statements of income, net of applicable income taxes, for all periods presented.

2006 â€“ The company sold the assembly business unit of ITD during the first quarter of 2006 and Winchester Electronics (Winchester) during the second quarter of 2006 for net cash proceeds of $26 million and $17 million, respectively, and recognized after-tax gains of $4 million and $2 million, respectively, in discontinued operations. The results of operations of the assembly business unit of ITD are reported as discontinued operations in the consolidated statements of income, net of applicable income taxes. The results of operations of Winchester, reported in the Electronics segment, were not material to any of the periods presented and have therefore not been reclassified as discontinued operations.

During the second quarter of 2006, the Enterprise Information Technology (EIT) business, formerly reported in the Information Technology segment, was shut down and costs associated with the exit activities were not material. The results of operations of this business are reported as discontinued operations in the consolidated statements of income, net of applicable income taxes.

2005 â€“ The company sold Teldix GmbH (Teldix) for $57 million in cash and recognized an after-tax gain of $14 million in discontinued operations. The results of operations of Teldix, reported in the Electronics segment, were not material to any of the periods presented and have therefore not been reclassified as discontinued operations.

CONTRACTS

The majority of the companyâ€™s business is generated from long-term government contracts for development, production, and service activities. Government contracts typically include the following cost elements: direct material, labor and subcontracting costs, and certain indirect costs including allowable general and administrative costs. Unless otherwise specified in a contract, costs billed to contracts with the U.S. Government are determined under the requirements of the Federal Acquisition Regulation (FAR) and Cost Accounting Standards (CAS) regulations as allowable and allocable costs. Examples of costs incurred by the company and not billed to the U.S. Government in accordance with the requirements of the FAR and CAS regulations include, but are not limited to, certain legal costs, lobbying costs, charitable donations, and advertising costs.

The companyâ€™s long-term contracts typically fall into one of two broad categories:

Flexibly Priced Contracts â€“ Includes both cost-type and fixed-price incentive contracts. Cost-type contracts provide for reimbursement of the contractorâ€™s allowable costs incurred plus a fee that represents profit. Cost-type contracts generally require that the contractor use its best efforts to accomplish the scope of the work within some specified time and some stated dollar limitation. Fixed-price incentive contracts also provide for

NORTHROP GRUMMAN CORPORATION

reimbursement of the contractorâ€™s allowable costs, but are subject to a cost-share limit which affects profitability. Fixed-price incentive contracts effectively become firm fixed-price contracts once the cost-share limit is reached.

Firm Fixed-Price Contracts â€“ A firm fixed-price contract is a contract in which the specified scope of work is agreed to for a price that is a pre-determined, negotiated amount and not generally subject to adjustment regardless of costs incurred by the contractor.

Contract Fees â€“ Negotiated contract fee structures, for both flexibly priced and fixed-price contracts include, but are not limited to: fixed-fee amounts, cost sharing arrangements to reward or penalize for either under or over cost target performance, positive award fees, and negative penalty arrangements. Profit margins may vary materially depending on the negotiated contract fee arrangements, percentage-of-completion of the contract, the achievement of performance objectives, and the stage of performance at which the right to receive fees, particularly under incentive and award fee contracts, is finally determined.

Positive Award Fees â€“ Certain contracts contain provisions consisting of award fees based on performance criteria such as: cost, schedule, quality, and technical performance. Award fees are determined and earned based on an evaluation by the customer of the companyâ€™s performance against such negotiated criteria. Award fee contracts are widely used throughout the companyâ€™s operating segments. Examples of significant long-term contracts with substantial negotiated award fee amounts are the KEI, SDD, E-2D SDD, LPD, and DDG-1000 programs.

Compliance and Monitoring â€“ On a regular basis, the company monitors its policies and procedures with respect to its contracts to ensure consistent application under similar terms and conditions as well as compliance with all applicable government regulations. In addition, costs incurred and allocated to contracts with the U.S. Government are routinely audited by the Defense Contract Audit Agency.

CRITICAL ACCOUNTING POLICIES, ESTIMATES, AND JUDGMENTS

Revenue Recognition
Overview â€“ The majority of the companyâ€™s business is derived from long-term contracts for the construction of facilities, production of goods, and services provided to the federal government, which are accounted for under the provisions of Accounting Research Bulletin No. 45 â€“ Accounting for Long-Term Construction-Type Contracts , American Institute of Certified Public Accountants (AICPA) Statement of Position (SOP) No. 81-1 â€“ Accounting for Performance of Construction-Type and Certain Production-Type Contracts , and the AICPA Audit and Accounting Guide, Audits of Federal Government Contractors . The company classifies contract revenues as product sales or service revenues depending on the predominant attributes of the relevant underlying contracts. The company also enters into contracts that are not associated with the federal government, such as contracts to provide certain services to non-federal government customers. The company accounts for those contracts in accordance with the Securities and Exchange Commissionâ€™s Staff Accounting Bulletin No. 104, Revenue Recognition , and other relevant revenue recognition accounting literature.

The company considers the nature of these contracts and the types of products and services provided when it determines the proper accounting method for a particular contract.

Percentage-of-Completion Accounting â€“ The company generally recognizes revenues from its long-term contracts under the cost-to-cost and the units-of-delivery measures of the percentage-of-completion method of accounting. The percentage-of-completion method recognizes income as work on a contract progresses. For NORTHROP GRUMMAN CORPORATION

most contracts, sales are calculated based on the percentage of total costs incurred in relation to total estimated costs at completion of the contract. For certain contracts with large up-front purchases of material, primarily in the Ships segment, sales are generally calculated based on the percentage that direct labor costs incurred bear to total estimated direct labor costs. The units-of-delivery measure is a modification of the percentage-of-completion method, which recognizes revenues as deliveries are made to the customer generally using unit sales values in accordance with the contract terms. The company estimates profit as the difference between total estimated revenue and total estimated cost of a contract and recognizes that profit over the life of the contract based on deliveries.

The use of the percentage-of-completion method depends on the ability of the company to make reasonably dependable cost estimates for the design, manufacture, and delivery of its products and services. Such costs are typically incurred over a period of several years, and estimation of these costs requires the use of judgment. Sales under cost-type contracts are recorded as costs are incurred.

Many contracts contain positive and negative profit incentives based upon performance relative to predetermined targets that may occur during or subsequent to delivery of the product. These incentives take the form of potential additional fees to be earned or penalties to be incurred. Incentives and award fees that can be reasonably assured and reasonably estimated are recorded over the performance period of the contract. Incentives and award fees that cannot be reasonably assured and reasonably estimated are recorded when awarded or at such time as a reasonable estimate can be made.

Other changes in estimates of contract sales, costs, and profits are recognized using the cumulative catch-up method of accounting. This method recognizes in the current period the cumulative effect of the changes on current and prior periods. Hence, the effect of the changes on future periods of contract performance is recognized as if the revised estimates had been the original estimates. A significant change in an estimate on one or more contracts could have a material effect on the companyâ€™s consolidated financial position or results of operations.

Certain Service Contracts â€“ Revenue under contracts to provide services to non-federal government customers are generally recognized when services are performed. Service contracts include operations and maintenance contracts, and outsourcing-type arrangements, primarily in the Information and Services business. Revenue under such contracts is generally recognized on a straight-line basis over the period of contract performance, unless evidence suggests that the revenue is earned or the obligations are fulfilled in a different pattern. Costs incurred under these service contracts are expensed as incurred, except that direct and incremental set-up costs are capitalized and amortized over the life of the agreement. Operating profit related to such service contracts may fluctuate from period to period, particularly in the earlier phases of the contract.

Service contracts that include more than one type of product or service are accounted for under the provisions of Emerging Issues Task Force Issue No. 00-21 â€“ Revenue Arrangements with Multiple Deliverables . Accordingly, for applicable arrangements, revenue recognition includes the proper identification of separate units of accounting and the allocation of revenue across all elements based on relative fair values.

Cost Estimation â€“ The cost estimation process requires significant judgment and is based upon the professional knowledge and experience of the companyâ€™s engineers, program managers, and financial professionals. Factors that are considered in estimating the work to be completed and ultimate contract recovery include the availability and productivity of labor, the nature and complexity of the work to be performed, the effect of change orders, the availability of materials, the effect of any delays in performance, availability and timing of funding from the customer, and the recoverability of any claims included in the estimates to complete. A significant change in an estimate on one or more programs could have a material effect on the companyâ€™s consolidated financial position or results of operations. Contract cost estimates are updated at least annually and more frequently as determined by events or circumstances. Cost and revenue estimates for each significant contract are generally reviewed and reassessed quarterly.

MANAGEMENT DISCUSSION FOR LATEST QUARTER

NORTHROP GRUMMAN CORPORATION

CONSOLIDATED OPERATING RESULTS

Cost of Product Sales and Service Revenues â€“ Cost of product sales as a percentage of product sales for the three months ended June 30, 2008, as compared to the same period in 2007, remained essentially unchanged. The increase in cost of product sales as a percentage of product sales for the six months ended June 30, 2008, as compared to the same period in 2007, is primarily due to a $272 million pre-tax charge at Shipbuilding in the first quarter of 2008 for cost growth on the LHD-8 contract and an additional $54 million, primarily for schedule impacts on other ships and impairment of purchased intangibles at the Gulf Coast shipyard.

NORTHROP GRUMMAN CORPORATION

Cost of service revenues as a percentage of service revenues for the three and six months ended June 30, 2008, as compared to the same periods in 2007, increased primarily at Mission Systems, Information Technology and Shipbuilding due to contract mix.

General and Administrative Expenses â€“ In accordance with industry practice and the regulations that govern the cost accounting requirements for government contracts, most general corporate expenses incurred at both the segment and corporate locations are considered allowable and allocable costs on government contracts and such costs, for most components of the company, are allocated to contracts in progress on a systematic basis, and contract performance factors include this cost component as an element of cost. General and administrative expenses primarily relate to segment operations. The decrease in general and administrative expenses as a percentage of total sales and service revenues for the three and six months ended June 30, 2008, is primarily due to the higher sales volume as compared with the same periods in 2007.

Operating Income
The company considers operating income to be an important measure for evaluating its operating performance and defines â€śoperating incomeâ€ť as revenues less the related cost of producing the revenues and general and administrative expenses. Operating income for the company is further evaluated for each of the business segments in which the company operates, and â€śsegment operating incomeâ€ť is one of the key metrics used by management of the company to internally manage its operations.

Segment Operating Income â€“ Segment operating income for the three months ended June 30, 2008, decreased $14 million, or 2 percent, as compared to the same period in 2007. Total segment operating income was 9.1 percent and 10.1 percent of total sales and service revenues for the three months ended June 30, 2008, and 2007, respectively. Segment operating income for the six months ended June 30, 2008, decreased $248 million, or 17 percent, as compared to the same period in 2007. Total segment operating income was 7.6 percent and 9.8 percent of total sales and service revenues for the six months ended June 30, 2008, and 2007, respectively. The decrease in operating income in 2008 includes pre-tax charges totaling $326 million at Shipbuilding in the first quarter of 2008 stemming from cost growth, schedule delays and impairment of purchased intangibles at the Gulf Coast shipyards. See the Segment Operating Results section below and Note 6 to the Condensed Consolidated Financial Statements in Part I, Item 1 for further information.

Unallocated Expenses â€“ Unallocated expenses include the portion of corporate expenses not considered allowable or allocable under applicable U.S. Government Cost Accounting Standards (CAS) regulations and the Federal Acquisition Regulation, and therefore not allocated to the segments, such as management and administration, legal, environmental, certain compensation and retiree benefits, and other expenses. Unallocated expenses for the three and six months ended June 30, 2008, decreased $21 million in each period, or 33 percent and 22 percent, respectively, as compared to the same periods in 2007, primarily due to $50 million in legal and investigative provisions recorded in the second quarter of 2007, partially offset by increased other corporate unallocated costs.

CAS. For the three months ended June 30, 2008, and 2007, pension expense determined in accordance with GAAP was $57 million and $87 million, respectively, and pension expense determined in accordance with CAS amounted to $126 million and $115 million, respectively. For the six months ended June 30, 2008, and 2007, pension expense determined in accordance with GAAP was $113 million and $174 million, respectively, and pension expense determined in accordance with CAS amounted to $241 million and $235 million, respectively. The reduction in GAAP pension expense in 2008 is primarily the result of better than estimated investment returns in 2007, a higher discount rate assumption and pension plan design changes that took effect in 2008.

Royalty Income Adjustment â€“ Royalty income is included in segment operating income and reclassified to other income for financial reporting purposes.

Interest Expense
Interest expense for the three and six months ended June 30, 2008, decreased $11 million and $23 million, respectively, as compared with the same periods in 2007, primarily due to the conversion and redemption of the mandatorily redeemable convertible preferred stock, which reduced the dividends paid during the 2008 periods.

Other, Net
Other, net for the three and six months ended June 30, 2008, increased $14 million and $37 million, respectively, as compared with the same periods in 2007, primarily due to gains recorded on the sale of assets in 2008 as compared with losses recorded on the sale of assets in 2007. Other, net for the six months ended June 30, 2008, also includes higher royalty income than in the prior year period. Other, net includes interest income for all periods presented.

Federal and Foreign Income Taxes
The companyâ€™s effective tax rate on earnings from continuing operations for the three months ended June 30, 2008, was 34.6 percent compared with 29.7 percent for the same period in 2007. For the six months ended June 30, 2008, the companyâ€™s effective tax rate on earnings from continuing operations was 35.0 percent compared with 31.9 percent for the same period in 2007. During the second quarter of 2007, the company entered into a partial settlement agreement with the Internal Revenue Service regarding its audits for the year ended December 31, 2001 through the year ended December 31, 2003. As a result of the settlement, the company recognized tax benefits of $16 million.

Discontinued Operations
Discontinued operations for the three and six months ended June 30, 2008, and 2007, primarily represents the net operating results and after-tax gain on sale of the Electro-Optical Systems business formerly reported in the Electronics segment. The 2007 periods also include the net operating results of Interconnect Technologies. See Note 5 to the Condensed Consolidated Financial Statements in Part I, Item I.

Diluted Earnings Per Share
Diluted earnings per share from continuing operations for the three months ended June 30, 2008, were $1.40 per share, as compared with $1.35 per share in the same period in 2007. Earnings per share are based on weighted-average diluted shares outstanding of 344.1 million for the three months ended June 30, 2008, and 355.3 million for the same period in 2007.

Diluted earnings per share from continuing operations for the six months ended June 30, 2008, were $2.15 per share, as compared with $2.46 per share in the same period in 2007. Earnings per share are based on weighted-average diluted shares outstanding of 346.7 million for the six months ended June 30, 2008, and 356.8 million for the same period in 2007.

Diluted earnings per share from continuing operations and the weighted-average diluted shares outstanding include the dilutive effects of the mandatorily redeemable convertible preferred stock. A substantial portion of the mandatorily redeemable convertible preferred stock was converted to common stock in the first quarter of 2008, with the remainder converted or redeemed in April 2008.

NORTHROP GRUMMAN CORPORATION

See Notes 4 and 7 to the Condensed Consolidated Financial Statements in Part I, Item 1.

Net Cash Provided by Operating Activities
For the three months ended June 30, 2008, net cash provided by operating activities was $607 million compared to $741 million for the same period in 2007. The decrease of $134 million, or 18 percent, was primarily due to the receipt of $125 million of insurance proceeds related to Katrina in 2007.

For the six months ended June 30, 2008, net cash provided by operating activities was $801 million compared to $1.1 billion for the same period in 2007. The decrease of $340 million, or 30 percent, was primarily due to higher cash paid to suppliers as compared to cash received from customers in the 2008 period of $284 million, and lower cash insurance proceeds of $120 million, partially offset by a slight improvement in other cash receipts.

SEGMENT OPERATING RESULTS

Basis of Presentation
During the second quarter of 2008, the company transferred certain programs and assets from the missiles business in the Mission Systems segment to the Space Technology segment. This transfer allows Mission Systems to focus on the rapidly growing command, control, communications, computers, intelligence, surveillance, and reconnaissance (C4ISR) business, and the missiles business will be an integrated element of the companyâ€™s Aerospace business growth strategy.

In January 2008, the Newport News and Ship Systems businesses were realigned into a single segment called Northrop Grumman Shipbuilding. Previously, these businesses were separate operating segments which were aggregated into a single segment for financial reporting purposes. In addition, certain Electronics businesses were transferred to Mission Systems during the first quarter of 2008.

In January 2007, certain programs and business areas were transferred between Information Technology, Mission Systems, Space Technology, and Technical Services.

Sales and segment operating income information in the following tables have been revised, where applicable, to reflect the above realignments for all periods presented.

For presentation purposes, the companyâ€™s seven segments are categorized into four primary businesses. The Mission Systems, Information Technology and Technical Services segments are presented as Information & Services. The Integrated Systems and Space Technology segments are presented as Aerospace. The Electronics and Shipbuilding segments are presented as separate businesses.

CONF CALL

Gaston Kent - Vice President of Investor Relations

Thanks Katrina, and good morning everyone. Welcome to Northrop Grumman's second quarter 2008 conference call. We've provided supplemental information in the form of a PowerPoint that you can access on our Investor Relations website at northropgrumman.com. The presentation will be available for a limited time and should be viewed in conjunction with today's commentary.

Before we start, please understand that as shown on slide two, some of the matters discussed on this call constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements reflect the company's views with respect to future events and perspective financial performance. Forward-looking statements involve risks and uncertainties and the actual results of the company may differ materially from the results expressed or implied by the forward-looking statements.

A more complete expression of these risks and uncertainties is contained in the company's SEC filings, including Forms 10-K and the 10-Q which was filed this morning. We're also filing a shelf registration statement with the SEC that replaces the company's existing shelf registration, which would have expired later this year.

During the call, we'll discuss second quarter results, including the non-GAAP measures, segment operating income, and operating margin and free cash flow. Both of which are reconciled in our press release. During today's call, we will also discuss the outlook for the remainder of 2008. Guidance will include GAAP measures of sales, operating margin rate, earnings per share from continuing operations, cash from operations and non-GAAP measure, segment operating margin rate and free cash flow.

We also want to draw to your attention to schedule six of our earnings release. This schedule provides 2006 and 2007 reported and realigned results that reflect the transfer of certain missile systems programs by Mission Systems to Space Technology.

On the call today are our Chairman and CEO, Ron Sugar; our President and COO, Wes Bush; and Chief Financial Officer, Jim Palmer.

We would now turn to slide three. At this time I would like to turn the call over to Ron.

Ron Sugar - Chairman and Chief Executive Officer

Thank you, Gaston, and hello everyone. Thanks for joining us. We're pleased with second quarter results, particularly, with the nearly double-digit sales growth we posted this quarter. All four of our businesses generated higher sales led by ship building and aerospace. Fully diluted earnings per share increased 10% and EPS from continuing operations increased by 4% with the difference being the gain on the sale of our Electro-Optical Systems business that's reflected in discontinued operations.

Both of these increases come on top of last year's $0.05 per share tax benefit. Second quarter operating income and margin rates are healthy, and at mid-year point, we are on track to meet our 2008 guidance.

Cash from operations and free cash flow are improving as we move through the year and are on track to achieve the guidance. As you know, our cash generation typically increases as we move through the year. And we expect cash to be very strong in the third and fourth quarters.

We continue to execute our balanced cash deployment strategy during the quarter, repurchasing approximately 2.8 million shares of our stock. Year-to-date, we have repurchased 10.3 million shares for approximately $800 million. There is $1.7 billion remaining on our current repurchased authorization.

We ended the quarter with the total backlog of nearly $67 billion. New business awards in the quarter, totaled $7.5 billion and include new competitive awards as well as follow-on to some of our franchise programs. This brings year-to-date new business awards to approximately $20 billion.

We won the navy's $1.2 billion Broad Area Maritime Surveillance or BAMS' contract in the second quarter; another strategic victory for Northrop Grumman. As with our tanker win, one of the losing bidders has protested the award. We expect the GAO decision on BAMS protest by mid-August.

Other important wins during the quarter include a significant position on JTRS that is the Joint Tactical Radio System, AMF, Starlight and U.S. Army contract to produce the new multifunction radar for its ERMP Unmanned Aerial Vehicle program as well as several important restricted awards.

And just last week, our technical services sector won two important awards. First, is participation in the contract field teams program, a seven year indefinite quantity, indefinite delivery air force contract with a potential collective value of $10 billion. Second, is participation on the air force's Flexible Acquisition and Sustainment Tool were fast program also on IDIQ contract that has a collective sealing value of $6.9 billion over 10 years.

Another notable event in the quarter was the delivery of the first National Security Cutter, the Bertholf to the United States coastguard. This is the most technologically advanced ship in the U.S. coastguard history, and an important new weapon to safeguard the security of our homeland.

Looking ahead, you are all aware that the Department of Defense will reopen the bidding for the aerial refueling tanker. The government has said the re-bid will be limited to a small number of procedural items identified by the GAO. And announcing the Pentagon's decision, Secretary Gates reconfirmed that our forces need the best tanker at the best value.

Our KC-45 is the most capable of giving the air force what it needs, better fuel efficiency, greater fuel offload, and much lower risk. That's why this tanker has won last five global competitions against the 767. The KC-45 tanker is built, tested and flying. It's refueling system has completed more than 100 hours of in-flight testing. New tankers are urgently needed now and our KC-45 is ready to go now.

The air-force selected the right tanker in February, and we are confident that Department of Defense will do so again. The tanker is not the only significant new opportunity in our pipeline. We are also competing for the Joint Light Tactical Vehicle, Aerial Common Sensor, the Transformational Satellite Program TSAT, the GPS Next Generation Ground Control segment, The Vehicular Intercommunication Systems next generation and other substantial opportunities.

I'd like to comment for a moment on the navy's recently reported plan to build just two DDG 1000 destroyers and then return to production of more DDG 51s. This potential changed the navy's ship building program will undergo review by the Secretary Defense as well as by both houses of Congress. As a partner with our customer, we will continue to provide the navy with our inputs into how such plans impact the shipbuilding industrial base, realizing that this is one of many important factors included in their decision making process.

We are currently building one DDG 1000 and four DDG 51s at our Pascagoula shipyard. We will support United States Navy in the execution of the shipbuilding plan they identify as best addressing the needs of our nation.

In summary, the quarter was solid. It was another quarter in which we grew sales, generated solid returns, captured important competitive opportunities and maintained an outstanding backlog. And for 2008, we are on a pace to achieve $33 billion in sales, $4.90 to $5.15 in earnings per share; cash from operations of $2.6 billion to $2.9 billion and free cash flow of $1.7 billion to $2.1 billion. All of which support our confidence in the outlook for Northrop Grumman in 2008 and beyond.

While today's call is focused on financial performance, I would like to take a moment to reflect on the recent dramatic rescue of our three co-workers Marc Gonsalves, Thomas Howes and Keith Stansel who had been held hostage for more than five years in Columbia by the FARC guerrilla forces.

I cannot overstate the joy we all feel to see them return to their families and homeland. I want to extend our heartfelt appreciation to the many, many women of the Columbian and the United States Governments who worked so hard for so many years to re-unite Tom, Marc and Keith with their families. And while we celebrate their return, we are mindful that a fourth employee, Tom Janis was killed by the FARC shortly after the plane crashed in the Colombian jungle in 2003. He is deeply missed and will not be forgotten.

Now, at this point, I'd like to turn the call over to Wes Bush. Wes?

Wes Bush - President and Chief Operating Officer

Thanks Ron. Hello everyone. My comments are outlined on slide 4, and will include updates on several programs. I'll begin with Wedgetail.

As most of you know the prime contractor announced a delivery delay and took a substantial charge on the program this quarter. As result of these delays, during the quarter we took an additional $20 million provision for the Wedgetail program, which contemplates the risk associated with this announced delay.

Our main survey for Wedgetail continues to make good progress toward completion. We continue to improve the radar system stability performance, and based on the prime contractor's revised schedule, we expect to enter the type acceptance test and evaluation phase this quarter, with ground test beginning in August and flight test starting in September.

We also continue to support the prime contractor in the integration of the radar with the mission computing systems and radar performance continues to improve as the flight test program matures.

Regarding the F-16 Block 60 program, development acceptance testing has been completed for the Agile Beam Radar and the targeting system. And we're on track to complete the next round of testing in the third quarter. Final in-country development acceptance testing of these modules is scheduled for early in the fourth quarter of this year.

The Falcon Edge software for Block 60 continues to achieve intermediate delivery milestones toward its scheduled delivery in the second half of 2008. The third and final incremental software has progressed from development to integration, and will be delivered this quarter for flight testing and ultimate delivery to the customer for in-country flight testing and deployment. There will be one subsequent software update, completing the electronic warfare capability. We continue to perform within our current EAC.

Moving onto our state and local programs, we're pleased with our progress and performance on both of Virginia Outsourcing and New York City Wireless programs. On Virginia Outsourcing, we completed key milestones needed to transition the services delivery. The cutover to services delivery occurred on July 1st as scheduled. Ongoing infrastructure consolidation will continue into the middle of 2009 as scheduled under the contract.

The New York City Wireless program achieved initial operating capability on March 31s. We're continuing to build out the network, and we anticipate full network capability later this year. As this impressive capability nears completion, we expect to be adding new services in the future, further enhancing the utility of the network for the city.

On our county of San Diego program, we completed the transition phase last year, and we're now in the recurring services phase. A recently completed program assessment generated a reduced revenue projection for the remaining life of the program. And as a result, we've adjusted the value of the deferred costs to reflect this revised outlook, which negatively impacted second quarter performance.

Looking at our IT business model more broadly, we continued to grow and perform across the breadth of the marketplace. We see substantial new opportunities for growth in all of our IT business areas. Our information technology leadership team is taking significant actions, aimed at improving operating and financial performance across the sector, including organizational changes, focused on reducing costs and improving organizational effectiveness. One of these key actions has been to establish more strength in financial criteria for our business model in the IT outsourcing space.

I'll conclude my comments with the LHD-8 progress report as measured against the key milestones that we've established last quarter. The first milestone was the aft main engine light off scheduled for the second quarter. We successfully completed this milestone on schedule.

The next major milestone scheduled for the third quarter is completion of electrical cabling. We've made significant progress in this area. We have confidence that we'll meet this cabling milestone in the third quarter. And I would add that timely accomplishment of this milestone is critical to our ability to support the test program on the delivery timeline that we've established. We are meeting our schedules and we are on track to complete the remaining milestones, leaving us the delivery of LHD-8 in the second quarter of 2009. Mike Petters and his shipbuilding team are making tremendous progress on the program, and Jim and I are personally reviewing LHD-8 progress on a weekly basis.

Now, my comments this quarter have again focused on a few challenging programs among the 20,000 of our portfolio that are demonstrating outstanding performance. As today's results indicate, we are generating solid results across the company. Program execution is the fundamental driver of our performance. And the improvements that we continue to demonstrate and performing on our current contracts, managing risks and capturing new business that generates value for our shareholders, will enable us to meet our financial objectives.

Thanks, Wes. Good morning ladies and gentlemen. As both Wes and Ron indicated, we are on-track to achieve our 2008 guidance. And overall we're satisfied with the second quarter performance.

Growth for our EPS from continuing operations for the quarter was 7.5% after adjusting for last year's $16 million or $0.05 per share tax benefit. We had strong organic sales growth, while at the same time maintaining the very robust backlog. And cash flow showed a marked improvement from the first quarter. Although year-to-date cash flow is lower than last year, we have always expected a very strong second half for cash generation, as I said on last quarter's call.

Beginning with sales on slide 5, all four of the businesses were up over last year. The trends for Information and Services, Aerospace and Electronics are consistent with the first quarter and demonstrate continued strength in product areas like intelligence, surveillance and reconnaissance for the information and services and programs like UCAS-D, EA-6B, Global Hawk, several key restricted and several space projects for Aerospace.

The 24% increase in shipbuilding is in directly comparable to last year and that it includes more than $150 million attributable to three events. First, is the impact of the last year's Gulf Coast labor strike. The second is the step down in sales, resulting from the LHA... LHD, EAC adjustment last year. And then the addition of AMSAC, which occurred in third quarter of last year.

Adjusting for these three items, sales growth was more in the order of 13% in shipbuilding. This organic growth reflects a wrap-up in activity for LPDs, DDGs, and aircraft carriers. Excluding these shipbuilding items on a consolidated basis, the company had high single-digit solid sales growth.

Now, moving to slide 6, on a consolidated basis, segment operative margin declined by $14 million, and as a percent of sales decline to 100 basis points to 9.1% from 10.1%. The majority of the decline in margin rate is attributable to three factors. First, is the decline at shipbuilding due to the step down in booking rates on the Gulf Coast shipbuilding programs that were impacted by the resource constraints caused by the previously announced LHD-8 delay. Second is the Wedgetail charge and third is the adjustment to San Diego IT outsourcing contract.

Now, I'll walk through each of the four businesses to give a little bit more color. Beginning with the Information and Services, Mission Systems had a outstanding strong 11% margin than last year's second quarter. The change to this year's operating rate reflects a more normal level of contract adjustments than occurred in the prior year. That is the primary driver of the change in operating income and in rate compared to the prior year period.

Information technology was negatively impacted by the reduction in the value of the deferred costs for the County of San Diego IT Outsourcing program. This essentially accounts for the 100 basis points of decline in information technology's margin rate. Without this charge, performance would have been comparable to last year's 7.9% margin rate.

And as Wes mentioned, we are very focused on improving financial performance at information technology. This quarter's margin rate is not what we expect from this business. We are keenly focused on improving performance through better execution on existing contracts while being more selective as we pursue new opportunities. The business model used for outsourcing opportunities has been tightened to focus on return on assets as well as return on sales.

Moving to Aerospace, this quarter's 9.5% margin rate versus 10.4% last year is inline with our expectations for this business and it supports our guidance. The primary driver of the change is the $27 million favorable adjustment we recognized last year for the settlement of prior year's overhead claims in this business. Adjusting for that item, we would have had margin expansion in Aerospace.

Electronics posted a very strong second quarter performance driven by sales growth as well as margin improvement. Electronics operating income rose 7% and margin rate expanded by 50 basis points. At shipbuilding, the decline in margin rate to 7.5% from 9.9% last year, reflects the announced step back in booking rates on several programs. Likewise, last year's second quarter included some favorable adjustments that drove shipbuilding's margin rate up to the 9.9%.

Below the segment line, operating income increased by 6% generally inline with the organic sales growth, and margin rate was 9.3% compared to 9.7% in the second quarter of 2007. We had an improvement of $21 million in corporate unallocated expense, and a $41 million improvement in net pension adjustment.

This quarter's corporate unallocated run rate was higher than the first quarter, primarily due to higher unallowable expenses in the quarter. The other notable item on the P&L is the $14 million increase and other net, primarily driven by gains from sales of assets this quarter versus some losses recorded on sales last year. These improvements were partially offset by an increase in our effective tax rate to 34.6% this quarter, compared to 29.7% in the prior year quarter. This year's higher effective tax rate compared to last year's, negatively affected the comparison of year-over-year earnings per share by about $0.11.

Moving onto cash on slide 7, cash from operations was $607 million for the quarter, down from $741 million last year. However, last year's cash from operations included a $125 million insurance recovery which we didn't have this year. And, as we have previously discussed, we do expect our cash flow this year to be more backend loaded. We don't expect the timing of cash flow to impact our cash deployment strategy however.

This leads me to 2008 guidance for the business, which is summarized on slide 8. Our sales guidance for each of the four businesses as unchanged other than to reflect the transfer of approximately $1 billion of Missile Systems business to Aerospace from Information and Services. So, our sales expectation for Information and Services is now $12 billion to $12.5 billion, compared with a prior range of $13 billion to $13.5 billion. And in likewise the sales and expectation for Aerospace has now increased by $1 billion to $9.3 billion to $9.5 billion, compared to the prior guidance of $8.3 billion to $8.5 billion. The change in these estimates have no impact on our consolidated sales guidance, which remains approximately $33 billion.

Moving onto slide 9, our margin rates expectations for the four businesses are also unchanged. We continue to expect consolidated segment operating margin rate in the high... to mid to high 8% range which comprises a low 8% range for information and services; about 10% for Aerospace, mid 12% for Electronics; and about 3% for Shipbuilding, all of which are unchanged from the guidance we provided on the first quarter call.

Looking at where we are year-to-date, we will have higher consolidated segment margin rate in the second-half of the year. The year-to-date consolidated 7.6% segment margin rate is primarily driven by the first quarter charge at shipbuilding. Through the first quarters, we are on track for Information and Services, Aerospace and Electronics in order to reach the mid-to-high 8% range for the year, Shipbuilding margin rate will expand as we go through the second half of the year, which is what we have been expecting. We continue to expect total margin operating rate in the high 8% range with a tax rate of approximately 34%.

Now moving to slide 10, summarizes our guidance for 2008. Our year-to-date results and our outlook for the remainder of the year support our guidance for sales, segment and total operating margin rates. And earnings per share from continuing operations are 490 to 515 per share.

Looking at cash, we continued to expect $2.6 billion to $2.9 billion of cash from operations, and free cash flow of $1.7 billion to $2.1 billion. Now, Gaston I think with that we are ready to turn it back it over to you for questions-and-answers.